Dividend stocks are very popular in the United States because they provide investors with a steady stream of income over time. But before you get into international dividend stocks, you may want to do some homework first.
Many countries withhold dividend taxes distributed by a foreign company, which can affect your effective dividend income.
In this article, we will take a closer look at how dividends are handled when it comes to international investment and how investors can maximize their revenue potential.
Closing Dividend Tax
Investing in U.S. dividends is a pretty straightforward process. After receiving dividends from the shares you own, include them in tax and pay income tax. If they stick to a tax bill, such as an IRA, then you don’t pay tax on them. Unfortunately, foreign exchange dividend stocks are a bit more complicated.
The difference is that dividends paid by a foreign corporation may be subject to that corporation’s home country tax. In theory, this means that you may need to file separate tax returns for each country where you receive a dividend. The dividend tax rates themselves also vary from country to country, meaning you should ask your broker for the exact rates.
The good news is that some countries have agreements with the United States to make the process much easier, but these agreements vary depending on the country and investors need to consult a tax professional before making investments.
In other cases, the US IRS offers tax credits to investors to offset the amounts they pay to foreign tax entities.
Use of foreign tax credits
The US Internal Revenue Service (IRS) offers either a foreign tax credit or a deductible deduction for overseas taxes on a foreign source of income subject to US tax on the same income, such as stock dividends.
Notably, these tax credits only apply to offset taxes paid in the US, so some retirees may not benefit.
It is common for investors who receive less than $ 300 in foreign tax credits to apply for loans directly on Form 1040 if the shares in question are held in a traditional brokerage account and a Form 1099-DIV is received with said foreign tax paid. Otherwise, you may need to file Form 1116 in order to apply for a tax credit and attach it to Form 1040.
Lastly, a foreign tax credit does not apply in some circumstances. First, credit cannot exceed your foreign sources of revenue, which are divided by your global total taxable income. And second, certain countries that are not on good terms with the United States may be unusable for the foreign tax credit, including those to which the United States is at war, for example.
Retirement Account Issues
People with retirement accounts, such as a 401 (k), IRA, and ROT IRA, should pay special attention to these issues. Because there is no dividend income tax in the US, all foreign taxes withheld on dividend stocks in these accounts are lost forever. In countries where the dividend tax can be higher than 20%, it can significantly reduce the effective dividend income.
There are several countries that either do not withhold dividend taxes or have special provisions for US investors. As a result, investors with tax revolving accounts may want to limit foreign dividend investments to these countries.
Tax agreements and closing remarks
Most countries have tax treaties with the US, which can help reduce tax rates for investors in foreign dividend stocks. But in some cases, tax rates may vary from broker to broker, as each broker must file paperwork with foreign authorities. In some cases, individual investors may also choose to go this route to get a discounted rate.
In the end, foreign dividend stocks can be a tricky business for investors. But overall, it is important to remember a few key points when investing in foreign currency dividend stocks:
- US provides a foreign tax credit to investors who are at risk of double taxation by paying dividend taxes in both foreign countries and the US
- Retired accounts are not eligible for a foreign tax credit because they would not otherwise owe US taxes
- Investors should ask their brokers to find out about dividend tax rates in different countries, as rates vary between country and even financial institution.
- Investors may also want to consult with a tax professional to see how these tax issues affect their specific situation when it comes to investing income.